Promotions are a very popular discounting structure that has been used for decades by distributors selling into the Food Retail market. We are all familiar with the retailer telling us "20 cents a pound off Hatfield tavern ham this week." In addition distributors and processors use this method to discount products all the time for a variety of purposes. One of my large distributors just used a promo extended to him from a wrap manufacturer to open new markets for that vendor. But are you making the most of them?
In our second installment on inventory management from Jon Schreibfeder he addresses the 'difficulties' that promotions can create to when forecasting appropriate stock levels and how you can help your keep your purchasing department from under or over buying before and after the promotion. He also slipped in an observation on the technique for measuring effective promotions that I'll be expanding on in our next newsletter.
I want to thank John again for his continued contribution to our Newsletter.
Promotions, Sales History and Accurate Forecasting
By Jon Schreibfeder
Promotions are designed to increase sales of particular products over a short period of time. But often times buyers don’t have a good idea of how and a particular promotion will affect customer demand. They also have the problems increased sales due to specific promotions being recorded in sales history. If this inflated sales history is used to calculate forecasts of future demand you may find yourself buying too much stock for a time period when the promotion is not offered.
In order for predictions of future demand to be as accurate as possible, it is important to both include the anticipated effects of a particular promotion in calculating a demand forecast and exclude the sales resulting from the promotion from sales history. Here is an outline of the procedures to follow in developing a system to monitor promotional activity:
1) Define the promotions that should be monitored. A promotion could be a temporary price reduction, special advertising, an associated giveaway or some other strategy to increase sales. Note that a particular promotion can occur multiple times within a year.
2) Specify the beginning and ending month and day that sales will be affected by each occurrence of the promotion.3) After the promotion, calculate the sales per day (in units) of each item in the two weeks before the start of the event, the sales per day during the event, and the sales per day in the two weeks following the event.
4) With the information from step #3 above calculate the percentage difference in sales between the period before the event and the period during the event as well as the difference in sales between the period before the event and the period after the event.
Why are we interested in what will happen to sales after the promotion has ended? Most promotions are followed by a “boomerang effect” or reduction in sales. After all, people considering buying the product probably purchased it during the promotion. In order for a promotion to be successful, the sales increase during the promotion must be greater than the boomerang effect after the promotion has ended. If it isn’t, you have only given away profit dollars or increased your costs without realizing higher sales.
Sales history must be adjusted to take away the affects of the promotion because we cannot be sure that the same promotion will be offered at the same time each year. For example, we must adjust January’s usage to reduce usage per day by 26.8% for fourteen days (January 1 through January 14) and increase usage by 9.8% for the seven days after the promotion 01 has ended.
Accumulated promotion history can help guide buyers and inventory planners as they anticipate what will happen to usage when the promotion is offered again in the future. For example, promotion #1 has resulted in an increase in sales of 26.8%. When promotion 01 is offered again, a buyer should consider increasing the results from the forecast demand formula by 26.8% to compensate for the anticipated additional sales. Over time, a buyer might adjust the results of the forecast formula (calculated with sales history not affected by the results of promotions) by the average increase in sales resulting from this promotion.
Remember that our goal is to not only increase to sales but also achieve these results with the amount of inventory that will maximize your net profits. Comprehensive promotion management will help you in your quest to achieve effective inventory management.
Jon Schreibfeder is president of Effective Inventory Management, Inc., a firm dedicated to helping manufacturers, distributors, and large retailers get the most out of their investment in stock inventory. For over 20 years, Jon has helped over two thousand firms improve their productivity and profitability through better inventory management. Jon has designed several inventory management computer systems and has also served as a distribution industry "troubleshooter" for two major computer companies. He is the author of numerous articles and a series of books on effective inventory management, including the recently published Achieving Effective Inventory Management (5th edition) and the National Association of Wholesale Distributors' Guess Right – Best Practices in Demand Forecasting for Distributors.
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